Wednesday, November 16, 2016

Privatization of Public Infrastructure

The new Administration is talking the talk of an infrastructure boom, which may be good news from a macroeconomic perspective. Matthew Titolo, however, sounds an alarm bell as to how this will all work:

Infrastructure privatization is in the news. In the past ten years, Pennsylvania, California, Colorado, Indiana, and many other states and municipalities have privatized—or attempted to privatize—toll roads, parking meters and other public infrastructure. State and federal policies have encouraged these public-private partnerships and infrastructure privatizations.

A very good read but permit me to jump down to footnote 31 which notes a 2009 article by Dan Mihalopoulos:

Chicago’s new parking meter operators are raking in more than $1.1 million a week and expect even more revenue next year, according to internal company documents obtained by the Chicago News Cooperative. The parking meter company projects total revenues of more than $75 million and net income of about $58 million in 2010…Financial experts who reviewed the data say Chicago could have made out much better in the long run had it just kept the meters. The private company, Chicago Parking Meters LLC, paid the city $1.15 billion in February for the right to reap all parking fee revenues for 75 years.

I’m not sure how the city decided that $1150 million was fair market value but let’s do a small DCF model that starts with nominal profits at $58 million per year but let’s this figure rise by 2 percent per year. The fair market value depends of course on what we assume the appropriate nominal discount rate should be. If one is willing to assume a 6.9 percent nominal rate, then this was a fair deal to the taxpayers. The current interest rate on 30-year government bonds, however, is only 3 percent. If we use this as our discount rate, the fair market value would be over $3 billion. Of course this has been an old story – government officials selling taxpayer assets to private companies at bargain prices. I think the President elect even wrote a book on this.

4 comments:

Let me comment briefly on the state of the Indiana toll road. With parking meters in Chicago, the private company has a strong incentive to maintain the payment mechanism, and has no responsibility for maintaining the streets. With the toll road in Indiana, in addition to maintaining the payment mechanism (toll booths, etc.), the leasing company has the responsibility to maintain the roadbed and on/off ramps, and to do such things as mow the grass in the median and (in selected locations) maintain road lighting.

The original lessee has gone bankrupt and it was acquired in 2015 by an Austrian consortium. So apparently, the original arrangement did not work out all that well.

Tolls have more than doubled (which was a necessity, as the road was in terrible shape), but apparently the road is still in terrible shape. The additional revenue seems to have gone mostly to interest payments on the bonds that were sold to finance the $3.85 billion up-front leasing payment.

It's not clear whether the State could have pushed through the higher tolls. It's also not clear whether this has been a net benefit. The up-front payment has helped finance bridge repairs and other infrastructure investments. But the toll road seems to be in worse shape. At best, it's a mixed bag. At worst...

As a native Chicagoan, let me chime in on this one. Baby Doc arranged the privatization deal at the end of his term, ostensibly to plug gaps in the current city budget. (His wife was sick so he decided to retire from his life-time appointment). The lead bank was Morgan Stanley and and it based the deal on a NPV of parking meter revenues of $5 bn. In the prospectus to investors, after they had package those projected revenues into structured bonds, the NPV was then $11 bn. Baby Doc, upon retirement, then when to work for a downtown white-shoe law firm. Which one? Why, the very firm that had represented Morgan Stanley et alia in the negotiations with the city. Chicago is a city of neighborhoods, with block parties, and ethnic parades. From now on, any such events will have to reimburse the consortium for any lost revenues due to such events. Further, who knows what the transport system of Chicago will look like in 75 years. Hopefully, much more efficient mass transit and fewer parking needs. Neo-liberal "shock doctrine" at work.

In regards to building infrastructure, I always assumed that the government could be 10 to 15% less efficient than the private sector, and we'd still be no worse off having government do the job because this 10-15% is what the private sector would want in the way of a return on its investment. And besides, this inefficiency would go into the pockets of middle-class working families as the government workers would have been overpaid for the work done compared to the "efficiency" a private company could have squeezed out of its workforce, and therefore in the pockets of owners of the private firm (who are most likely already much better off than the average working family).

Now, in regards to parking meters: How would the taxes paid on the profits earned by the private company that bought the rights to this cashflow be taken into account? As city revenues, there are no income taxes involved, but as a private for-profit venture, income taxes paid do become a variable to be considered. Also, is it possible that the private sector is a lot more efficient at ensuring that meter fees are collected? Or are the profits just greater because they are paying their workers a lot less than what city workers were paid to do the same job?

I guess what I'm saying is, things get a bit complicated when weighing the pros and cons of the two alternatives.

But, the key is, if the city can do the work close to as efficiently as the private sector can, than the city should do the work. Especially when it doesn't see any of the income taxes paid by the private entity, but any money it overpaid its workers would most likely be recirculated in the city itself.